When we think about Venture Capital (VC), we think about great entrepreneurs, secret deals, and the adrenaline rush of hitting the “next big thing”. Silicon Valley is in many respects the financial cousin of Hollywood: full of great successes, grand failures, of divas, heroes and villains. Financially not very pleasing, but a fun sport.

But there is a new way of doing business in VC: an approach that uses advanced analytical science and algorithmic investment principles to assist in making funding decisions to remove risk, and give investors much more structured exposure to the world’s most promising asset class.

But before I jump into the details, I have to make one important point: The reason we developed a scientific investment approach to VC is not that we have a general bias towards scientific investment in the first place.

We developed the i2X quantitative VC framework and the corresponding Innovation Index because we realized that the financing of innovation is a very special challenge.

The factors that determine the success of any individual early stage technology startups often lie far outside the company and even the founders themselves. They can found not by looking at just the company, but only by factoring in a much larger set of factors that we call “ecosystem”.

And even after factoring these ecosystems in, it remains impossible to predict an individual startup’s success for logical reasons. Therefore, we have to look at a larger set of startups – a “cluster” – and start looking this cluster an investment object. Only then do we get into a territory that offers statistical significance.

This new quantitative approach to VC is personally important to me. It applies the tools of scientific investing to solve probably the biggest problem in global asset management, which I describe as a lack of alpha.

As Ray Dalio once famously said: “In the long run, income can never grow faster than productivity.” And productivityis a simple function of technology innovation whose largest growth comes from technology startups.

Since VC is in charge of financing innovation, it is not just a fun sport. It is the financial infrastructure that is responsible to generate growth across all asset classes.

And right now, it’s a grandiose failure. At a $26b US volume, dismal returns of 6.9% p.a. – a negative alpha of 2.8% below the Russell 2000 – no liquidity and 30%+ risk, the numbers look not good.

The reason lies in an outdated approach to VC in that Venture firms simply apply the Private Equity playbook to technology startups: they look into their financials, their growth rate, their past. But this is not how innovation works. Truly disruptive startups have no past: they are new. Startups are future potential that unravels far too fast to wait for it to unravel before you invest.

By failing to provide a financial infrastructure that is built around the fundamental traits of innovation, VC fails to build the startup breeding ground our entrepreneurs, financial markets and economy rely on.

This failure and its negative effects have driven us to take action, and develop a financial technology that accounts for the unique nature of startup innovation.

Following this logic, I want to start the description of the i2X Innovation Index and quantitative VC framework by taking a closer look at the system of innovation it empowers. It is a system of four macro-factors which together form a wonderful mechanic of progress that we call the “Innovation Machine”.

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